The Debt Divide

The racial and class bias behind the ‘new normal’ of student borrowing

TODAY, TAKING OUT LOANS is the primary way individuals pay for college—a major shift in how our nation provides access to higher education. While concerns about the growth in college costs and student debt are nearly universal, much of this concern focuses on how college debt is affecting the economic well-being of college graduates and our overall economy. What has been less understood or examined is how this shift to a debt-based system affects our nation’s historical commitment to ensuring everyone—regardless of race or class—can afford to go to college. We need to understand whether or not the “new normal” of debt-financed college is having an impact on our ability to make good on that fundamental promise.

This “new normal” affects the whole pipeline of decision-making related to college, from whether to attend college at all, what type of college to attend and whether to complete a degree, all the way to a host of choices about what to do for a living and whether to save for retirement or buy a home. In an America where black and Latino households have just a fraction of the wealth of white households, where communities of color have for decades been shut out of traditional ladders of economic opportunity, a system based entirely on acquiring debt to get ahead may have very different effects on some communities over others.

Combined data from three U.S. Department of Education surveys, the Federal Reserve’s 2013 Survey of Consumer Finances, and existing academic literature reveals a system that is deeply biased along class and racial lines. This debt-financed system not only results in higher loan balances for low-income, black and Latino students, but also results in high numbers of low-income students and students of color dropping out without receiving a credential. In addition, it may be fundamentally affecting the post-college lives of those who are forced to take on debt to attend and complete college. Our findings include:

  • Black and low-income students borrow more, and more often, to receive a bachelor’s degree, even at public institutions. A full 84 percent of graduates who received Pell Grants graduate with debt, compared with less than half (46 percent) of non-Pell recipients. While less than two-thirds (63 percent) of white graduates from public schools borrow, 4 in 5 (81 percent) of black graduates do so.
  • Associate degree borrowing has spiked particularly among black students. At public institutions, well over half (57 percent) of black associate-degree recipients borrow (compared with 43 percent of white students), and they borrow nearly $2,000 more than white students.
  • Students at for-profit institutions face the highest debt burdens. Associate degree recipients at for-profit schools borrow nearly the same amount (only $956 less) as bachelor’s degree recipients at public colleges.
  • Black and Latino students with debt are dropping out at higher rates than white students. At all schools, 39 percent of black borrowers drop out of college, compared with 29 percent of white borrowers.
  • Graduates with student loan debt report lower levels of job satisfaction when initially entering the workforce. High debt borrowers report levels of satisfaction around 11 percentage points lower than those who graduated from college debt-free.
  • Studies suggest that small amounts of debt—$10,000 or below—have a positive impact on college persistence and graduation, but amounts above that may have a negative impact.
  • At every level of education, households without student debt are more likely to own homes, have slightly lower interest rates on mortgages, and have retirement and liquid assets that are considerably larger than those households with student debt.

A history of good intentions

In a gymnasium at Southwest Texas State Teachers College in 1965, President Lyndon Johnson remarked upon signing the Higher Education Act that “a high school senior anywhere in this great land of ours can apply to any college or any university in any of the 50 states and not be turned away because his family is poor.” The HEA created a system of grants, work opportunities and interest-free loans for needy students. Rather than being seen as a partisan accomplishment of the Great Society, it was largely defended as a seminal piece of the American social contract.

And so it went for a generation of aspiring college students, who could generally finance college from a combination of scholarships, part-time employment and family income.

As more students entered college, however, our public officials began to renege on their promise to invest in the higher education system. States started cutting per-student funding at public institutions, and modest increases in grant aid were dwarfed by rising tuition. Meanwhile, working-class and middle-class incomes began to stagnate, leaving students with little recourse but to take on debt to reach their college dreams. With each successive reauthorization or rewrite of the HEA, policymakers have done less to fulfill the dreams of those who wrote it.

We have now entered a new phase where student borrowing is the primary way young people pay for college. The heavy reliance on student loans has made the college-going process fundamentally different for some groups, notably black and Latino students and students of modest means. And despite a growing body of research showing that need-based grant aid is the most effective mechanism to induce enrollment and completion, our public policy has led students to rely far more on loans—the effectiveness of which is mixed at best and actually harmful at worst.

The wealth gap connection

This shift places an unequal burden on communities that have historically been denied an opportunity to gain and leverage wealth. While higher-income, predominately white households can hope to minimize borrowing by using tax-advantaged savings and investment accounts, home equity and other mechanisms, low-income households by and large cannot use these tools. For our entire history, public policies—from redlining, to inequitable state and local tax formulas that fund K-12 education, to the decline of defined-benefit pensions—have denied communities of color the same opportunities to build wealth and gain the same foothold in the middle class that whites have enjoyed. And despite the death of de jure Jim Crow-era segregation, gaps in wealth between white and black, and white and Latino, households have actually increased. Two decades ago, white households had a median net worth seven times higher than black households, and six times higher than Latino households. In the aftermath of the recession, whites held 13 times more wealth than black households and 10 times more wealth than Latino households.

The result is a burden of debt that is fundamentally unequal; low-income, black and Latino students almost universally must borrow to attain a degree, while white, middle-class and upper-class students are far less likely to need to borrow.

Reliance on loan debt also makes the consequences of dropping out of college far direr. A generation ago, the only consequence a college dropout faced was the loss of future earnings that could have come with the degree. Now, dropouts also face a debt burden that must be paid off in short order.

Finally, student loan debt does not stop at the water’s edge—there is plenty of evidence that it can reduce lifetime wealth, affect important life decisions and resonate long after a borrower is out of school.

The gap deepens

It is no secret that college costs have far outpaced inflation and growth in family income. Need-based grant aid, which is designed to defray costs for low-income students, has also dwindled. It is disheartening but not surprising, then, that students who already have trouble financing school—namely, black and Latino low-income students—have seen borrowing levels and amounts spike.

Indeed, low-income graduates (those who received a Pell Grant while in school) borrow at far higher rates—and in higher amounts—than their middle- and upper-income counterparts at both two- and four-year institutions, regardless of the type of institution attended, and despite receiving thousands of dollars in grant aid. Black students also borrow at much higher rates, and in higher amounts, to receive the same degrees as their white counterparts. Latino students borrow at higher percentages and in higher amounts than white students at private nonprofit and for-profit institutions, but graduate with less debt on average than white and black students at public institutions.

Borrowing discrepancies apply to those earning not only bachelor’s degrees but also two-year degrees. It is a misconception that an associate degree is a low-cost, low-debt college option, either as a springboard for a bachelor’s degree program or return to the workforce. Four in 10 associate degree recipients at public institutions now must borrow in order to earn the credential. Debt levels, while lower than those at four-year schools, average $13,970 at public institutions.

Fifty-seven percent of black associate-degree recipients borrow (compared with 43 percent of white students), and they borrow nearly $2,000 more than white students. Well over half (55 percent) of associate degree recipients who received Pell Grants graduated with debt. Pell recipients took on an average of more than $14,500, nearly $2,000 more than those who never received the grant.

While 3 in 4 students attend public colleges and universities, for-profit institutions educate fewer than 10 percent of all undergraduates. And yet, for-profit schools command media and policy attention precisely because of the outsized impact they have on overall student borrowing. For-profit institutions also enroll disproportionate numbers of black and Latino students, who make up fewer than one-third of all college students but nearly half of all private for-profit students.

While for-profit schools graduate the lowest percentage of their students than any sector, those who do graduate almost certainly take on debt. Eighty-six percent of white students, 89 percent of Latino students and 90 percent of black students borrow to earn a bachelor’s degree at for-profit institutions, with debt averaging around $40,000 for each group.

High debt, no diploma

In some ways, the student borrowers described above may be in the best shape of all. After all, despite rising debt burdens, borrowers with degrees at least have a credential that remains valuable in the labor market. Unemployment rates remain lower and earnings remain higher for college graduates relative to their less-educated peers, even if the rise in overall debt threatens to consume more and more of their income and savings over time.

For dropouts, however, the story is different. In fact, dropping out of college is consistently the biggest predictor of whether or not someone will default on a student loan, and financial obligations (either the cost or the need to work to financially support oneself while in school) is the largest reason cited for dropping out. And black and Latino students are substantially more likely to cite financial reasons for dropping out. About 7 in 10 black dropouts cite student debt as a primary reason for not completing school, compared with fewer than half of white students.

Student loans cast a post-college shadow

In 2013, Demos released “At What Cost? How Student Debt Reduces Lifetime Wealth,” which showed that relative to a college-educated household without debt, an indebted household stands to lose $208,000 over a lifetime, primarily from lost retirement savings. This figure will rise as debt levels, and thus the time it takes to offload student debt, extend into a borrower’s prime earning years. Even a 2014 Brookings Institution report that received wide attention for arguing that student debt is manageable for the average borrower noted that borrowers are now taking twice as long (13.4 years) to pay off their loans as they were nearly 20 years ago (7.5 years).

Beyond potential lost savings, a recent poll from Gallup and the University of Purdue notes that indebted graduates—particularly those with high debt levels—report lower levels of financial worth as well as physical well-being.

Student debt may also be affecting the decisions students make about future employment. Graduates with student loan debt also show less initial job satisfaction than those who did not borrow for undergraduate education. Calculations from a report of the National Center for Education Statistics, “Baccalaureate and Beyond: A First Look at the Employment Experiences and Lives of College Graduates, 4 Years On,” show evidence that student debt causes graduates to choose highly paid occupations and shy away from public-interest professions. And a recent study from researchers from the Federal Reserve Bank of Philadelphia and Penn State notes that student debt has a significant negative impact on small-business formation.

A debate has also sprung up around the impact of student debt on this generation’s ability to purchase a home. According to the Federal Reserve, student borrowers continue to stay away from home purchases relative to their non-indebted peers. Whereas having student loan debt once made someone more likely to purchase a home, the opposite is now true: 27- to 30-year-olds with student debt have lower rates of homeownership. The same is broadly true of car ownership.

The lifelong advantage

The flip side of student debt’s mantle of financial challenge is the continued economic well-being of those who attend college debt-free. The Pew Research Center found that college-educated households without student debt had a net worth seven times greater than those with student debt, and non-college-educated households without debt had a net worth nine times greater than those with student debt. In fact, net worth for non-college-educated households without student debt was actually higher than college-educated households with student debt.

At every level of education, non-indebted households are more likely to own homes, have slightly lower interest rates on mortgages, and have retirement and liquid assets that are considerably larger than those households weighed down by debt. The differences in retirement assets in particular are stark: Households with some college and no education debt have an average of over $10,000 more in retirement savings than indebted households; households with a college degree have over $20,000 more; and dual-headed households with college degrees have nearly $30,000 more.

Naturally, we also see the value of a college degree, as both homeownership rates and overall savings rise by education level. But while a college degree provides many financial advantages, there is evidence that the debt needed to gain it is leaving some households behind.

Why has this happened?

A primary driver of student debt continues to be reduced state expenditures on higher education. In the past decade alone, state higher education funding per student dropped by 22 percent, and 2012 saw the lowest per-student expenditure on higher education in three decades. Even as the economy has rebounded from a bitter recession, state spending for higher education ticked upward by a negligible 1.4 percent and even then, 20 states still cut per-student funding. Gaps in funding have been made up primarily via tuition, shifting the cost away from the state and onto the student. Meanwhile, family incomes for everyone but the wealthiest have remained relatively stagnant for the better part of three decades.

Proponents of our current debt-based system often point out that borrowing provides students with funding for college when they are least likely to be able to afford the cost of college, thereby providing access. And of course, very few borrowers could have paid the sticker price of college without loans.

But this presents a false choice; after all, loans are not an inevitable way to fund college. The alternative to loans could simply be increases in state appropriations that lower student costs, or increases in grant aid targeted at students who need it the most. Indeed, strong evidence shows that need-based grant aid improves college access, particularly for nontraditional students.

Making it better

The debate around student debt often assumes that we have reached a “new normal” in requiring students to borrow substantial amounts of money for a degree. In fact, the broad assumption seems to be that student debt is a positive form of debt, one that allows students access to a system that will increase their earning power, thereby recouping the debt they initially face.

But these assumptions are difficult to reconcile with the consequences that this system has wrought. Despite research strongly linking need-based grant aid to access, we have instead allowed a system to flourish in which need-based aid covers less and less of the cost of college. We have forced more students to borrow. We have accepted a system in which a substantial portion of borrowers drop out. And despite bipartisan rhetoric around closing attainment gaps among students of color and low-income students, we have created a system in which more underrepresented students take on debt and drop out with debt, thereby saddling people of color and those with modest means with substantial disadvantages as they enter the workforce.

In addition to the inequitable distribution of debt, we also see worrying signs that student debt interferes with the ability to build wealth and assets, find a satisfying or civic-minded job, or start a business.

But that does not mean this is irreversible. In 2014’s “The Affordable College Compact,” Demos lays out a plan for a federal-state partnership that would allow the federal government to use its leverage to encourage states to develop policies and plans to ensure the majority of poor, working-class and middle-class students can attend college without incurring debt or financial hardship. The plan requires states to affirm that higher education is a public good—in other words, that tuition revenue does not exceed revenue from state appropriations.

This is historically consistent with public higher education in the United States and will prevent state institutions from excessively increasing tuition in tandem with federal help. States would also be eligible for one of two matching grants, depending on their level of commitment to providing debt-free college for low-income students in the state.

In 2012, Demos also developed the Contract for College, which would align federal student aid programs into one cohesive, guaranteed package for students. It would also simplify federal financial aid by providing low-income students with grants and work-study to cover the vast majority of college costs, and middle-income families with a guaranteed aid package of grants, work-study and subsidized loans. Reforming financial aid could work in tandem with increased state investment—in fact, states that commit to debt-free college would have an easy guideline by which they could distribute their own support as well as federal subsidies.

These policies are developed on a principle of shared responsibility—by states, the federal government and students—and are based on the historical promises by states and the federal government to provide an affordable, valuable degree to students regardless of race or class. As we have seen, from high borrowing to substantial numbers of indebted dropouts, we have yet to live up to that commitment.


AFT On Campus, Fall 2015 Download PDF (2.24 MB)
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